Global Financial Crisis and its Implications for Vietnam s

1
Global Financial Crisis and its Implications for
Vietnams Real Estate Sector What are the Policy
Options?16th Asian construction Conference on
Sustainable Urbanization in Real Estate Sector,
Vietnam National Convention Center, Hanoi,
Vietnam, 26-28 November, 2010

• Habibullah Khan, PhD
• Associate Dean, Academic Programs
• Professor of Economics
• U21Global Singapore

2
An overview of the presentation

• What caused the GFC?
• Post-crisis Vietnam Economy
• Sustainable urbanization
• The case of Vietnam
• The various Funding sources-Domestic and Foreign
• The Singapore Experience
• Lessons for Vietnam
• Real Estate Investment Trusts (REITs)
• Conclusion

3
Quotes on the crisis

• What we know about the global financial crisis
  is that we don't know very much. (Paul A
  Samuelson)
• Financial crisis is the fruit of a pattern of
  dishonesty on the part of financial institutions,
  and incompetence on the part of policymakers
  (Joseph Stiglitz)
• Blaming speculators as a response to financial
  crisis goes back at least to the Greeks. Its
  almost always the wrong response (Larry Summers)
• Cash for trash (Paul Krugman on financial
  bailout)

4
Traditional model of mortgage lending

• Home appraisal and the borrowers credit
  worthiness (The Fair Isaac Company or FICO
  score above 620) ?mortgage amount
• Deposits (net of minimum reserve requirements)
  held by the bank ? mortgage lending capacity
• Inherent risk ? bank failure in case of mortgage
  defaults ? diversification needed
• Other risks Banks can be fully loaned up and
  cannot cope with increasing housing demand
  (particularly in a liquid environment)
• Financial innovation ? to broaden the mortgage
  base (funds against which new loans can be
  granted)

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New model securitization of mortgages

• Pooled a bunch of loans and sold them in
  secondary market ?mortgage bond market
• Loans (such as ARMs or Adjustable Rate Mortgages)
  extended to low quality borrowers ? subprime
  market with FICO score below 620
• Jumbo mortgages above Freddie Macs loan limit
  (417,000)
• Levels (traunches) of subprime mortgages in
  accordance with quality of borrowers ?higher and
  lower
• Credit rating agencies ? higher levels rated
  above prime mortgage lending? massive expansion
  of the number of buyers
• Mortgage bond market in 2007 stood at 6 trillion
  ? largest single component of 27 trillion US
  bond market ?bigger than treasury bonds

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Other Debt instruments

• Other Debt Instruments ? Collateralized Debt
  Obligations (CDOs) and Asset Based Securities
  (ABS)
• CDOs were packaged as complex combinations of
  good and bad loans ?higher risk ones yielded
  attractive 12 return to investors ?sold and
  resold to global financial market
• Companies like AIG insured CDOs (mainly through
  credit default swaps or CDS) and buyers
  included large banks, hedge funds. pension funds
  etc
• Pool of pools (raising aggregation bias) as
  Special Investment Vehicle (SIV) or Special
  Purpose Vehicle or Conduits ?Off balance-sheet
  entities ?greater flexibility from accounting and
  regulatory points of view

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Pre-crisis macro environment

• Economic boom in the decade (from mid-1990s)
  before the crisis ? American banks flushed with
  liquidity
• Technology boom, war spending, growth of EU
  ?fuelled further increase in money supply
• Rise of China, India, Brazil, Russia ?Savings
  fuelled money supply (e.g. Chinese banks lent
  money to overseas banks) ? supply exceeded demand
  ? downward pressure on interest rate ? property
  boom (housing bubble) in USA
• Clinton administration encouraged banks to lend
  to the poorer segment ? subprime lending
• Feds low interest policy (no inflation worries!)
  and historic lows after dotcom bubble burst in
  2000 and 911 terrorist attacks
• Housing investment was assumed safe by both
  borrowers and lenders

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The party is over

• Crisis started (around 2005) in subprime
  capital Cleveland that was hard hit by
  manufacturing decline ?wave of repossessions (one
  in 10 homes gone by end 2007) ?ARM set higher
  interest rate fueling the crisis
• Crisis spread quickly across all other states
  (20 of mortgages were subprime by 2005) of USA
  ?banks and the chain of investors (including
  insurers through CDS) suffer heavy losses beyond
  recovery? mortgage bond market collapse ? onset
  of GFC
• Global capital markets pose the same kinds of
  problems that jet planes do. They are faster,
  more comfortable, and they get you where you are
  going better. But the crashes are much more
  spectacular (Larry Summers)

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Main causes

• Failure to check growth of housing bubble (the
  price of a typical American house rose by 124in
  1997-2006 average house prices increased almost
  five times in 1980-2006)
• Increased debt burden (overleveraged) during the
  years preceding the crisis (household debt as
  of annual disposable income was 127 at the end
  of 2007 compared to 77 in 1990)
• Easy credit conditions (Fed lowered the federal
  funds rate from 6.5 to 1.0 during 2000-03)
• Fraudulent underwriting practice (thanks to
  rating agencies!) in issuing loans by banks
  including the bigger ones
• Predatory lending (brilliant mortgage brokers!)
  by using bait-and switch method (particularly
  in loan refinancing)
• Complexity (thanks to talented financial
  experts!) in financial innovation (too deceiving!)

10
Post-crisis Vietnam economy

• Vietnam economy was overheated in 2007 and early
  2008 due to large capital inflows following its
  accession to WTO since 11 January 2007
• The effects of GFC were somewhat moderated by the
  stimulus package and the economy grew by 5.3 in
  2009
• The economy is predicted to rise by 6.5 in 2010
  and 7.0 in 2011
• In World Bank classification, Vietnam is a
  lower- middle- income country or LMC (per
  capita income ranging from US996 to 3,945) it
  was one of the poorest countries in 1990 (per
  capita income was less than US100)

11
Growth Rates for Developing East Asia
12
World Banks Assessment of Vietnam

• Though growth is set to return to pre-crisis
  level, current account deficit remains high
• Weakening of bank balance sheets due to rapid
  expansion of domestic credit for stimulating the
  economy
• Capital inflows are returning and FDI rose from
  US6.9 billion in 2009 to 7.6 billion in 2010
• Economic Groups (EGs) investing heavily in
  financial sector and real estates exacerbating
  asset price bubbles
• Structural reforms ongoing and committed to
  achieve quality- based sustainable growth by
  emphasizing on efficiency rather than capital
  accumulation

13
Vietnam has improved its Competitiveness

• Vietnam ranks 59 (out of 131 countries) in the
  latest WEF Global Competitiveness Index 2010-11,
  showing a 16 notch up from its position in
  2009-10
• It has improved in 10 out of 12 GCI pillars and
  the most notable ones are its efficient labor
  market (30th), impressive innovation potential
  (49th), and large market size (35th)
• However, trade is hindered by high import tariffs
  (90th), other trade barriers (112th) and
  burdensome customs procedure (106th)
• Due to highly regulatory (non-transparent)
  environment Vietnam ranks quite low (144th out of
  179 countries) in terms of 2010 Index of
  Economic Freedom

14
Vietnam is a peaceful country

• The Institute for Economics and Peace (IEP) has
  ranked Vietnam 38th (among 149 countries) in the
  Global Peace Index (GPI) for 2010
• The ranking is based on 23 indicators measuring
  conflicts security and militarization. It also
  takes into account a range of related criteria
  (potential determinants of peace) which includes
  education, democracy, and material well-being
• New Zealand tops the list and Iraq stands at the
  bottom Singapore ranks 30 and US occupies 85th
  position

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Importance of urbanization

• There is a robust relationship between
  urbanization and per capita income nearly all
  countries become at least 50 percent urbanized
  before reaching middle-income status, and all
  high income countries are 7080 percent
  urbanized. In all known cases of high and
  sustained growth, urban manufacturing and
  services led the process, while increases in
  agricultural productivity freed up the labor
  force that moved to the cities and manned the
  factories. In the high-growth cases that we
  examined in the Growth Commission, the average
  productivity of a worker in manufacturing or
  services is on the order of three to five times
  that of a worker in traditional sectors, and
  sometimes much more (Michael Spence, Nobel
  laureate in Economics in Urbanization and
  Growth, Commission on Growth and Development,
  The World Bank, 2009, preface)

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Sustainable urban development

• "Improving the quality of life in a city,
  including ecological, cultural, political,
  institutional, social and economic components
  without leaving a burden on the future
  generations. A burden which is the result of a
  reduced natural capital and an excessive local
  debt. Our aim is that the flow principle, that is
  based on an equilibrium of material and energy
  and also financial input/output, plays a crucial
  role in all future decisions upon the development
  of urban areas (URBAN21 Conference, Berlin, July
  2000)

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Urban sustainability criteria

• For analyzing good practice in urban
  development, Asian Development Bank (ADB)
  selected the following sustainability criteria
  (Urbanization and Sustainability in Asia Case
  Studies of Good Practice edited by Brian Roberts
  and Trevor Kanaley, ADB, 2006)
• Good governance
• Urban management
• Infrastructure and service provision
• Financing and cost recovery
• Social and environmental sustainability
• Innovation and change
• Leveraging ODA

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The case of Vietnam

• Less than 30 of total population live in urban
  areas (47 in slums) but the share is likely to
  double by next 25 years
• Sustainable development is not widely understood
  but the government has proposed measures to
  improve urban environments and reduce poverty
• The strategies recommended for sustainability of
  urban development includes reform of land
  administration and management system,
  improvements in land registration and tenure,
  financial market development by means of land as
  collateral for capital raising, improvements in
  the recognition and protection of property rights
  and mortgage market for residential development,
  improvements of urban infrastructure and utility
  services, strengthening urban and solid waste
  management, and so on

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The Scope for ODA

• In 1993 - 2007, total ODA conclusion (60 loan
  and 40 grant) reached some US32,109 million,
  accounting for 76 of total ODA commitment total
  ODA disbursement is US19,865 million or 62 of
  total ODA conclusion.
• According to MPI, the has been major problems in
  translating commitments into disbursements and
  while the former has risen sharply from 2002,
  actual disbursements have risen much more slowly
  (MPI, Overview of 15 years of ODI of Vietnam
  1993-2008)
• Untied aid represents 65 and used mainly for
  general budget support, disaster and debt
  management, banking and financial sector, energy,
  fishing and forestry, water supply and sanitation
• Vietnam may be graduated soon (as it has
  already become a middle-income country) from
  concessional ODA entitlements

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Does foreign aid really work?

• One predominant view is that aid (roughly
  US100billion business 30 through NGOs and 10
  emergency assistance) is not necessary for
  development to happen--though, if used properly,
  it can provide an important catalyst to
  accelerate the development process (Roger C
  Riddell, Does Foreign Aid Really Work? OUP,
  2008)
• Dependency School highlights the negative
  aspects of foreign aid but the views are not
  substantiated with conclusive evidence
• Jeffrey D Sachs (The End Of Poverty, penguin
  2005) believes that global poverty can be
  eliminated if Western countries contribute a
  modest 0.7 of their respective GDPs to foreign
  aid program

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Other forms of capital inflows

• Foreign investment- Direct foreign investment or
  FDI portfolio investment management contract
  franchise agreements
• Foreign capital (debt)-commercial loans
• FDI (through MNCs or TNCs) is generally viewed as
  the best form as it comes as a package
  (capital, technology, and skilled manpower)
• Singapore preferred FDI over other forms (in
  fact, rejected ODA) despite inherent limitations
  (like transfer pricing and inappropriate
  technology transfer) the benefits of FDI
  depend on host-investor country relationships
• While most countries afflicted by earlier debt
  crises have now recovered, the problem is still
  sleeping and debt servicing remains a major
  issue for Third world countries

22
Singapore success story

• Singapore (710 sq. km. with a population of
  nearly 5 million) understood the need for housing
  the residents and created Housing and Development
  Board (HDB) in February 1960 (immediately after
  it attained self-rule in 1959) to build
  affordable homes of quality and value
  particularly for low-income groups
• 82 of resident population live in public flats
  and 80 residents enjoy home ownership home
  ownership is above 90 if private housing is
  included
• Urban Redevelopment Authority or URA is
  Singapores land use planning authority- prepares
  long-term strategic plans and detailed local area
  plans for physical development Garden city
  concept to preserve greenery that could otherwise
  be turned into a concrete jungle golf
  courses added aesthetic qualities to citys
  landscape and helped attract Japanese investors

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Singapores innovative approach

• Singapore could successfully overcome land
  constraints through efficient spatial planning
  (land reclamation, vertical expansion in a
  eco-friendly manner, zoning of industrial sites,
  nature conservation by charting a comprehensive
  Green Plan) and costs of urbanization have been
  successfully contained (utility and transport
  prices are competitive pollution standards are
  within acceptable limits) through integrated land
  use and transport policies
• Mortgage finance greatly assisted by CPF savings
  asset enhancement programs helped preserve
  value of investment
• The level of public subsidy was tuned to economic
  growth rates for the sake of sustainability and
  not to create a showcase state (Bankrupt Dubai!)
• Other innovations in transport/water management
  (car quota system, Electronic road pricing, water
  recycling)

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Interventionist approach

• The Singapore government had no ideological
  commitment to any particular economic system. The
  only concern was the betterment of living for the
  citizens and in order to achieve this objective,
  it implemented (with the help of
  experts/technocrats) a host of pragmatic
  policies which involved extensive government
  intervention in all areas of life.
• I am accused often enough of interfering in the
  private lives of citizens. If I did not, had I
  not done that, we wouldnt be here today. (Lee
  Kuan Yew, cited in Lim Chong Yah Others, Policy
  Options for the Singapore Economy, McGraw-Hill,
  1988, p66

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Can Vietnam emulate Singapore policies?

• Development is not a process of imitation but
  lessons can be learned from successful experience
• The interventionist policies worked in Singapore
  as the leaders are dedicated and exceptionally
  clean (Singapore ranks 3rd in terms of
  Corruption Perception Index 2010 following
  Denmark and New Zealand)
• While politicians took the major decisions the
  implementations were made by the relevant
  experts (Singapore relies heavily on foreign
  talents) drawn from various parts of the world
• The policies were flexible for the sake of
  stability (e.g. asset enhancement policies
  supplemented by property cooling measures as
  and when needed to avoid asset bubbles and
  ensure a gradual appreciation of property value)

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Real Estate Investment Trusts or REITs

• REITs are investment vehicles that invest in,
  develop, and manage income-inducing real estates
  (offices, hotels, apartments or malls).
• The number of REITs globally stood at 451 at
  end-June 2008, down from 484 at end-2006 (Vinod
  Kothari, Introduction to Real Estate Investment
  Trust, 2009). Singapores first REIT, CapitaMall
  Trust (by CapitaLand) was launched on 17 July
  2002 and currently there are 20 REITs (market
  capitalization now about US 20 billion)
• All Singapore REITs are listed and are bought
  and sold like other securities on SGX at market
  prices. The revenue generated from rental
  payments under the properties is distributed to
  unit holders either annually or semi-annually.

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REITs by country (Vinod Kothari 2009)
28
Market Capitalization of Global REITs (Vinod
Kothari 2009)
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Types of REITs

• Three types of REITs- Equity REITs, Mortgage
  REITs, and Hybrid REITs.
• Equity REITs invest in and own properties and
  most of their income is derived from the rent of
  properties.
• Mortgage REITs are mortgage backed securities
  (MBS). They also loan money to real estate owners
  thereby receiving income from interests earned on
  the mortgage loans.
• Hybrid REITs is a combination of both the
  investment strategies
• Currently, all REITs in Singapore are Equity
  REITs

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Advantages of REITs

• Professionally managed and opportunity for small
  investors (compared to investment property)
• REITs are required to distribute at least 90 of
  their income to unit holders (higher returns than
  bank deposits)
• Performance monitored by independent directors,
  analysts, auditors and media
• Investors enjoy tax exemption on distributed
  income
• Allowed to use CPF funds in Singapore
• Investors may however lose money if they need to
  sell their units at a time when market price is
  low or at the time of economic downturn
• REITs are becoming more competitive in Singapore
  and some measures (acquisition of overseas
  property, enhancing current property assets,
  quality management) need to be adopted to remain
  competitive

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Concluding remarks

• The state must play an active role to create
  sustainable urban communities and measures be
  taken to enhance the efficiency of the public
  sector
• An integrated approach must be adopted for
  efficient use of land and infrastructure
  development
• Given the large size of informal sector, efforts
  should be made to improve the living standards of
  those who are employed in this sector
• All projects should be financially viable
  foreign funds (if any) must be utilized properly
  so as to avoid any possible chances of bankruptcy
• Housing should be seen mainly as an act of
  consumption rather than investment and
  profit-seeking public subsidy (if any) should be
  confined to low-income groups
• Investment in REITs can be carefully considered